Weekly Wrap-up: The Yen, Oil, and the Year-end Target

This past week The
Agile Trader Index Futures Service netted a 10.5% profit in the e-mini
Nasdaq 100 futures market. That brings the service's net position gains to
73% year-to-date with a net portfolio gain of 19%.

The following article was originally published on April 1, 2007 at The
Agile Trader

Dear Speculators,

Last week we discussed two different interpretations of the 4-year cycle in
the stock market and we laid out parameters according to which we will likely
end up determining which is correct: if the SPX breaks below the March closing
low of 1374 then the 4-year cycle low that we had expected to arrive last autumn
is very probably still ahead of us; and if the SPX breaks above the February
closing high of 1460 before it moves below 1374, then we will stick with our
original view that the new 4-year SPX cycle began last July.

THE YEN

As we discussed in this space on March 4 and March 11, what happens with the
Japanese yen will be a significant determinant of which model of the 4-year
cycle turns out to be more helpful. If the June yen contract breaks above 0.89
($0.89 per 100 yen) then pressure will again increase on those heavily leveraged
to the yen to unwind their carry trades, forcing accelerated buying of the
yen and accelerated selling of all things dollar denominated (e.g. US stocks
and bonds, and even gold).

The action in the yen over roughly the past 4 weeks has been essentially benign
and has helped to stabilize global financial markets.

As you can see on this chart of the June futures contract, the yen has consolidated
the large jump made in late February and early March, and has compressed its
trading range in a triangle that has a horizontal lower limit hear 0.8525 with
a descending upper limit, now down near 0.8625

This triangle is approaching a breaking point. Should the triangle break down,
with the yen trading down toward 0.85 or lower, that will very likely be bullish
for US stocks. But if the triangle breaks to the upside, well, caution would
be warranted for those making bullish bets in US stocks, and the risk of the
SPX testing and/or breaking 1374 to the downside would significantly increase.

Hey, globalization may be grand, but it's a two-edged sword. With so many
borrowed yen having been converted to investments in all manner of instruments,
both paper and real, denominated in just about every currency imaginable, global
financial markets are more interrelated and interdependent than ever before.
So, if the yen sneezes, US markets will get sprayed.

EARNINGS AND OIL

With 1Q07 now in the books, and with both Earnings Warning Season and then
Earnings Season hard upon us, there's a lot worth thinking about in our pictures
of analysts' estimates.

The analysts' consensus for the SPX's Forward 52-Week Earnings Per Share (F52W
EPS, blue line below) dropped again last week, now down $1.16 from its all-time
high of January 19, '07 to $95.36.

Note: This consensus estimate uses a top-down trend rate of growth for 1Q08,
as Standard & Poors has not yet published quarterly bottom-up estimates
beyond 4Q07. Once those new '08 estimates are published we may see some fluctuation
in the blue line.

Using these numbers the consensus for earnings growth during the coming 52
weeks is in a decelerating trend, now at +7.4%. While forward growth doesn't
look too bad, the deceleration of growth may be cause for concern, especially
in the context of sluggish GDP growth with a below-trend 2% handle on it.

On a sector-by-sector basis we see that Health Care is beginning to really
impress in terms of the direction of earnings expectations (purple line below).
As are the Industrials and Telecom Services.

While Energy and Financials show huge gains in earnings expectations over
the past 18 months, those positive trends are most recently showing signs of
aging.

Tech's earnings trend is deteriorating. The Financials, Utilities, Consumer
Staples, Materials, and Consumer Discretionary sectors look to be market performers
in terms of the change in forward expectations.

And Energy is expected to show negative earnings growth during the coming
year.

(See the XOIL chart below for further discussion on the Energy sector and
the chart's macroeconomic implications.)

Given the sector-by-sector hodge-podge above, here's an interesting chart
that may be of interest to stock-market bulls who are feeling a big queasy
lately. This chart uses sector-by-sector earnings estimates and calculates
the SPX's expected rate of earnings growth (red line) along with the SPX Less
Energy's expected rate of earnings growth (blue line).

Because of weighting and methodology issues these numbers don't line up precisely
with the our previous earnings chart, but one thing is clear here: The SPX's
expected rate of earnings growth is LOWER than is the SPX Less Energy's expected
rate of earnings growth. Which is to say that analysts currently expect NON-ENERGY
companies' growth to outpace Energy companies' growth. And the positive separation
on this chart (the extent to which the blue line is rising faster than the
red line) is accelerating.

If those expectations are realized, that would be a very "Goldilocks" (higher
growth with lower inflation -- the inverse of "stagflationary") scenario.

Of course, the sixty-four-billion-dollar question is whether this scenario
will indeed play out. With Crude Oil having just this past week broken to the
upside out of a substantial Inverse Head & Shoulders Bottom, it may be
that analysts' estimates have some catching up to do.

Technically, this upside breakout through the neckline gives us an intermediate
target of $70 on Crude, and, ultimately a possible run at $74.

If Crude trades durably up in the $70s, then Energy companies' estimates probably
need to rise and just about everyone else's estimates need to fall.

The Yen, Earnings, Crude Oil, Economic Growth…we've got cross-currents
running in all directions. And it appears that the market is going to continue
to try to frustrate both bulls and bears alike for at least a little while
longer.

Since November the trends in both 1) the market's Price/Earnings Ratio (blue
line above) and 2) the inversion of the yield curve (red line, which is the
10-Yr Treasury Yield less the Fed Funds Rate) have been mainly flat.

Though it's hard to keep it in mind as the market goes through its daily peregrinations,
the SPX has in essence been digesting and consolidating the gains made off
the July low, as we had been expecting.

As the Y/Y change in F52W EPS (blue line below) continues to slowly decline
during this spring, and as the Fed Funds Rate's Y/Y change (red line below)
continues to gradually decelerate along with it, we continue to look for the
Fed to remain on hold at least until well into 2H07.

At the current rates of decline, both the red and blue lines on this chart
will hit their long-term medians around the end of June (0% and 7.5% respectively).
And we would not expect the Fed to start cutting interest rates unless/until
these lines show clear indications that they are going to spend some significant
time dwelling below their median levels.

THE YEAR-END TARGET

So, where do all these crosscurrents leave us?

This monthly chart of the SPX may be helpful.

When the SPX broke out above the neckline of its Inverse Head & Shoulders
bottom in late 2004, and then passed the test down to that broken neckline
by breaking to new higher highs in mid '05 an upside breakout target was established
near 1550. This upside target is established by taking the "depth" of the Head
(from the neckline down to the low at H) and adding that number to the point
at which the chart breaks out above the neckline.

In this case the distance from the neckline down to the low of the "Head" is
about 400 points. The breakout above the neckline came near 1150. So, add 400
to 1150 and we get a target of 1550.

Note that this 1550 target is the lower limit of our year-end target band
of 1550-1600, which keeps popping up on our screens for all sorts of fundamental
and technical reasons, and which we have discussed at length previously in
this space.

Along the way to this 1550-1600 band, the 1400 level represents a "rest stop" at
about 62% of the distance from the breakout to the ultimate target. We would
expect the market to spend some time consolidating and gathering its energies
near this 1400 level before "assaulting the castle" of its all-time highs.

Specifically, we're continuing to look for the market to continue consolidating
the July-February rally until at least mid April and perhaps through May and
deep into June. Beyond that, we're still looking for a push up to the 1550-1600
level before the year is out.

HYPOTHETICAL PERFORMANCE RESULTS HAVE MANY INHERENT LIMITATIONS,
SOME OF WHICH ARE DESCRIBED BELOW. NO REPRESENTATION IS BEING MADE THAT ANY
ACCOUNT WILL OR IS LIKELY TO ACHIEVE PROFITS OR LOSSES SIMILAR TO THOSE SHOWN.
IN FACT, THERE ARE FREQUENTLY SHARP DIFFERENCES BETWEEN HYPOTHETICAL PERFORMANCE
RESULTS AND THE ACTUAL RESULTS SUBSEQUENTLY ACHIEVED BY ANY PARTICULAR TRADING
PROGRAM.

ONE OF THE LIMITATIONS OF HYPOTHETICAL PERFORMANCE RESULTS
IS THAT THEY ARE GENERALLY PREPARED WITH THE BENEFIT OF HINDSIGHT. IN ADDITION,
HYPOTHETICAL TRADING DOES NOT INVOLVE FINANCIAL RISK, AND NO HYPOTHETICAL TRADING
RECORD CAN COMPLETELY ACCOUNT FOR THE IMPACT OF FINANCIAL RISK IN ACTUAL TRADING.
FOR EXAMPLE, THE ABILITY TO WITHSTAND LOSSES OR ADHERE TO A PARTICULAR TRADING
PROGRAM IN SPITE OF TRADING LOSSES ARE MATERIAL POINTS WHICH CAN ALSO ADVERSELY
AFFECT ACTUAL TRADING RESULTS. THERE ARE NUMEROUS OTHER FACTORS RELATED TO
THE MARKET IN GENERAL OR TO THE IMPLEMENTATION OF ANY SPECIFIC TRADING PROGRAM
WHICH CANNOT BE FULLY ACCOUNTED FOR IN THE PREPARATION OF HYPOTHETICAL PERFORMANCE
RESULTS AND ALL OF WHICH CAN ADVERSELY AFFECT ACTUAL TRADING RESULTS.

DOG DREAMS UNLIMITED INC.(DDUI), WHICH OWNS AND OPERATES
THE AGILE TRADER, HAS HAD LITTLE OR NO EXPERIENCE IN TRADING ACTUAL ACCOUNTS
FOR ITSELF OR FOR CUSTOMERS. BECAUSE THERE ARE NO ACTUAL TRADING RESULTS TO
COMPARE TO THE HYPOTHETICAL RESULTS, CUSTOMERS SHOULD BE PARTICULARLY WARY
OF PLACING UNDUE RELIANCE ON THESE HYPOTHETICAL PERFORMANCE RESULTS.

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